Can Schwab Rescue Schwab?

In the beginning, Charles R. Schwab created the discount brokerage. And it was good. Schwab, the man, stood for the empowerment of the individual investor. He swore eternal hostility against every swindle, every conflict and every unjust regulation preventing the average investor from taking his or her place at the table of plenty enjoyed by the affluent. The masses fled to Schwab and found an affordable marketplace for mutual funds, securities, bonds and IRAs.

Schwab also created David Pottruck, who spent every minute of his 20-year career at the firm in Chuck Schwab’s shadow before being unceremoniously terminated in July. At 67, when Schwab would much rather be perfecting his already virtuoso golf game, the founder has reclaimed the CEO title that he had reluctantly, and belatedly, bestowed on Pottruck a scant 15 months ago.

Events at Schwab display all the classic elements of a Greek tragedy. A visionary and still-robust father-figure founder who can’t quite seem to find the right time to let go. A brilliant but unruly son-like deputy whose “bad boy” antics served as an excuse to continue his prolonged adolescence. And, most tellingly, a corporate culture so rich in value statements, origin stories and epics of crises past that it can be properly said of Schwab that, far from owning and controlling this powerful corporate culture, the culture owns and controls Schwab. If the lasting value of a leader is measured by succession, then Chuck Schwab is failing the test.

To be sure, Pottruck didn’t make it easy for Schwab or the board. A champion wrestler in college, Pottruck joined the firm in 1984. A paradox of an executive, repentant tyrant with an unrepentant inner bully who needed to be loved, Pottruck was sometimes an inspiring leader who tightly aligned the organization with Chuck Schwab’s vision and values. At other times, however, he was a dictatorial, aloof and secretive manager who treated the board as an opponent to be outwrestled rather than as an ally to be trusted.

That latter attribute spelled his downfall, according to a source close to the situation. Pottruck had a secret plan to sell off the firm’s Schwab Soundview Capital Markets unit, which he had acquired only eight months earlier. Unfortunately, someone leaked the news to the New York Post. When board members read in an article that Pottruck had retained the investment banking firm Greenhill & Co. to sell Soundview, which makes markets in NASDAQ-listed stocks, a number of them were furious. Though Pottruck apologized, the damage was done. The company declined to make Schwab available for comment, but spokesman Glen Mathison said Soundview “was certainly an issue the board took into account in a thoughtful and lengthy review of Mr. Pottruck’s performance.”

The issue was not the merits of selling Soundview, many directors thought from the beginning it represented a distraction, but rather the lack of disclosure. “Had Pottruck consulted the board on this, he’d still be CEO,” said a director who spoke on the condition of confidentiality. “Making inquiries is one thing; secretly retaining a firm is another. Dave threw a high-risk pass, and it was intercepted. The coach had to take him out.”

The coach, of course, was Chuck Schwab, the chairman of the board. It was only last year that he relinquished the co-CEO title he had shared with Pottruck since 1998. Firing Pottruck was a reluctant decision by the board, and it underscored the complete failure of a succession plan that called for Schwab to gradually become less active as Pottruck assumed more control.

Few corporate defeats can be traced to one decision, but the failure of Pottruck’s career at Schwab is an exception to the rule. It was 1997 and Schwab, 60 years old at the time, relished the roles of visionary chairman and CEO at a company that was riding the dot-com bubble through the roof. It was time to make a vote of confidence in a new generation of leadership. But instead of naming Pottruck CEO and delegating the necessary legitimacy to lead, Schwab blinked. He couldn’t let go.

Effective Jan. 1, 1998, the men would be co-CEOs. Pottruck tried to make the best of it, but it was a bitter pill to swallow because the relationship was so clearly not 50-50. The way the arrangement played out created a toxic environment for top management. It made recruitment difficult and executive development retention problematic, if not impossible.

Pottruck took a lot of good people down with him. Schwab’s lack of full confidence in Pottruck, underscored by the unequal co-CEO arrangement, made it almost impossible for Pottruck to show full confidence in his lieutenants. Having hit a glass ceiling, the insecure Pottruck became hypersensitive to anyone approaching from below. The result is that turnover has been so pervasive, there is not one internal candidate left at Schwab with the experience and credibility to lead the company.

Schwab’s decision to dump his deputy and go at it alone represents a Hail Mary pass to save the company he founded in 1973. “Chuck wants his shot to get his legacy going in the right direction,” observes one Schwab director. “He has his whole net worth tied up in this thing.” The firm’s stock rose 55 cents, to $8.85, the day after Pottruck’s ouster was announced. But it ended the week at $8.57, down 28 percent this year.

The board believes giving the helm to the still-beloved Chuck Schwab will allow the organization to heal. To leverage Schwab’s conspicuously indifferent administrative skills, the company is crafting an “Office of the CEO” comprised of three or four senior managers. The goal? To revive Schwab’s core business of providing high-quality, reasonably priced trading services for retail customers and financial advisers while adjusting its cost structure to allow it to serve these customers at a profit. An immediate issue is how best to unload Soundview and the company’s market-maker operations, as well as US Trust, the private bank that Pottruck bought near the peak of the bubble in 2000 for $3.2 billion.

Although the company says Chuck Schwab’s new role is indefinite, the board will begin to quietly search for a new CEO after a few months. It won’t be easy. The new CEO will likely want a guarantee that the chairman will play significantly more golf than he did when Pottruck was in the corner office. A logical candidate might be John Philip Coghlan, the former retail unit chief, who left Schwab in May 2003 to escape Pottruck and seek a CEO slot.

Insiders don’t give much credibility to speculation that Schwab will be acquired. People who believe rumors that Schwab may put itself up for sale to Merrill Lynch, Goldman Sachs or Ameritrade fail to understand a critical piece of Schwab lore. Chuck Schwab once made the mistake of selling out (to Bank of America in 1983 for $57 million only to buy his company back four years later for $280 million). Independence remains an indivisible aspect of Schwab’s DNA. The winds may blow and Schwab may eventually be acquired, but it won’t be while Charles R. Schwab is at the helm.